Chinese Chip Counterfeiter, Lured to US in Sting, Pleads Guilty to Conspiracy

On Friday, Daofu Zhang, a Chinese citizen, pleaded guilty to conspiring to sell counterfeit computer chips used in military applications. According to Zhang’s plea agreement, the offense carries a maximum penalty of ten years of imprisonment and a $2 million fine.

Zhang’s is just the latest conviction in the long, established trade of fake or “recycled” chips coming from China—a trade that has affected systems and networks in the US military and beyond.

In 2011, the the director of the US Missile Defense Agency told Congress that counterfeit electronics had ended up in the agency’s systems seven times over five years. Fakes have also been installed in weapon systems, and a 2012 Senate Armed Services Committee investigation found phony parts in cargo headed for Special Operations helicopters and a Navy surveillance plane. The shipments had come from China.

Researchers have even responded to the problem, trying to find ways to mitigate the counterfeit chip market, by designing new systems to make chips harder to fake.

One well-known hub for this trade is the Guiyu Electronics Market, just outside Shantou, in southeast China. The market is notorious for being where iPhones, and other electronics, go to be recycled. A 2010 study showed that over 80 percent of a group of village children under 6 years old suffered from lead poisoning.

At Guiyu, workers strip used computer chips, which are then cleaned in a river and then exported. Some of these chips will become part of the legitimate second-hand industry, which sells refurbished components that are no longer produced by the original manufacturer.

“Defense agencies and contractors regularly purchase ICs on the secondary market, either to maintain older systems and equipment, or to assemble new systems and equipment from old designs,” Jessica A. Herrington, a Special Agent, writes in the complaint against Zhang.

But some companies may physically modify a chip so that it appears that it came from a different company, or a certain batch, or was made on a different date—meaning they can be sold for a higher profit. The chips can be re-marked after the original tags (which demarcate the true company of origin) have been sanded off, or new markings can be written on top of a thick layer of black epoxy, Herrington writes.

A 2008 investigation by Business Weektraced chips used by BAE Systems, the infamous aerospace government contractor, back to traders in Shenzhen, China. As part of that article, reporters detailed a string of companies that played a part in providing the US military market with lower quality chips.

“The sale of re-marked or otherwise fraudulent ICs into the stream of commerce is a significant problem, due to the increased risk of equipment failure from using salvaged or sub-standard components,” Herrington continues.

Zhang worked for one of the scam companies which was based in Shenzhen, the same city that Business Week was led to in 2008.

In 2012, law enforcement agents launched an elaborate undercover operation, purchasing items from ‘HK Potential’. Years later, in November 2015, Zhang shipped two packages containing eight chips with counterfeit Xilinx brand labels. Xilinix’s chips had military applications, “including radiation tolerance for uses in space,” according to the US Attorney’s Office. Zhang and two others were arrested shortly after, when they arrived in the US as part of a purported deal with the undercover agents.

Zhang’s co-conspirators also pleaded guilty in March of this year. Their case, however, seems unlikely to squash the still-booming Chinese counterfeit chip trade.

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